rr-03-20.pdf

Preserve advance releases and the authoritative Internal Revenue Bulletin rendition; directory timestamps are file-publication metadata, not legal effective dates. HTML bulletins begin June 2003; earlier available issues require full PDF parsing.

This collection currently includes the publisher’s available advance-release directory. Historical bulletin renditions are discovered separately; an advance-release record alone does not certify the collection archive complete.

Part I

Section 45D.--New Markets Tax Credit

26 CFR 1.45D-1T: New markets tax credit.

Rev. Rul. 2003-20

ISSUE

For purposes of determining the new markets tax credit allowable under § 45D of
the Internal Revenue Code, does the amount of the qualified equity investment made by
a limited liability company (LLC) classified as a partnership include cash from a
nonrecourse loan to the LLC that the LLC invests as equity in a qualified community
development entity?
FACTS

In Year 1, CDE
, a qualified community development entity under § 45D(c),
receives a new markets tax credit allocation of $2,000
x
from the Secretary of the
Treasury. In Year 2,
X
, a widely-held C corporation, contributes $792x for a 99-percent
member interest in
LLC
, a limited liability company that is classified as a partnership for
federal tax purposes.
Y
, a widely-held C corporation, contributes $8x for a 1-percent
managing member interest in
LLC
. LLC borrows $1,200x from Bank, an unrelated third
party.
LLC
contributes $2,000x for an equity interest in CDE, which is a limited liability
company classified as a partnership for federal tax purposes.
CDE
designates LLC’s
equity investment in
CDE
as a qualified equity investment under § 45D(b)(1)(C).

The $1,200x loan from Bank is a nonrecourse liability that is characterized as
indebtedness of
LLC
for federal tax purposes. The loan is secured only by LLC’s
interest in
CDE
. The loan is not secured by any assets of CDE. The full amount of the
loan is repayable at the end of Year 9. The loan is not convertible into an equity interest
in
LLC
.

On April 1 of Year 2, CDE
lends the $2,000x to a qualified active low-income
community business, as defined in § 45D(d)(2)(A). This $2,000
x
loan is repayable in
full at the end of Year 9. Interest payments received by
CDE
from the qualified active
low-income community business are distributed to
LLC
. X and Y retain their
membership interests in
LLC, and LLC retains its $2,000x equity investment in CDE,
until the end of Year 9. The entire $2,000
x
loan by CDE remains outstanding, and the
borrower continues to qualify as a qualified active low-income community business, until
the end of Year 9.

LLC claims its qualified equity investment in CDE is $2,000x on each credit
allowance date and allocates the new markets tax credit with respect to this amount to
X
and Y in accordance with § 704(b).
LAW

Section 45D(a)(1) provides that for purposes of § 38, in the case of a taxpayer
who holds a qualified equity investment on a credit allowance date (as defined in
§ 45D(a)(3)) of the investment which occurs during the taxable year, the new markets
tax credit determined under § 45D for the taxable year is an amount equal to the
applicable percentage (as defined in § 45D(a)(2)) of the amount paid to the qualified
community development entity for the investment at its original issue. Section
7701(a)(14) defines the term “taxpayer” to mean any person subject to any internal
revenue tax. Section 7701(a)(1) provides that the term “person” shall be construed to
mean and include an individual, a trust, estate, partnership, association, company or
corporation.

Section 45D(b)(1) defines the term “qualified equity investment” as any equity
investment in a qualified community development entity if (A) the investment is acquired
by the taxpayer at its original issue (directly or through an underwriter) solely in
exchange for cash, (B) substantially all of the cash is used by the qualified community
development entity to make qualified low-income community investments, and (C) the
investment is designated for purposes of § 45D by the qualified community
development entity.

Section 45D(b)(2) provides that the maximum amount of equity investments
issued by a qualified community development entity which may be designated under
§ 45D(b)(1)(C) by the entity shall not exceed the portion of the limitation amount
allocated under § 45D(f) to the entity.

Section 45D(b)(6) defines the term “equity investment” as (A) any stock (other
than nonqualified preferred stock as defined in § 351(g)(2)) in an entity that is a
corporation, and (B) any capital interest in an entity that is a partnership.

Section 45D(c)(1) defines the term “qualified community development entity” as
any domestic corporation or partnership if (A) the primary mission of the entity is
serving, or providing investment capital for, low-income communities or low-income
persons, (B) the entity maintains accountability to residents of low-income communities
through their representation on any governing board of the entity or on any advisory
board to the entity, and (C) the entity is certified by the Secretary for purposes of § 45D
as being a qualified community development entity.

Section 45D(d)(1) defines the term “qualified low-income community investment”
as (A) any capital or equity investment in, or loan to, any qualified active low-income
community business, (B) the purchase from another qualified community development
entity of any loan made by the entity which is a qualified low-income community
investment, (C) financial counseling and other services specified in regulations

prescribed by the Secretary to businesses located in, and residents of, low-income
communities, and (D) any equity investment in, or loan to, any qualified community
development entity. Section 45D(d)(2)(A) defines the term “qualified active low-income
community business” as any corporation or partnership that satisfies the requirements
of § 45D(d)(2)(A)(i) through (v).
ANALYSIS

Section 45D(b)(1)(A) requires that a qualified equity investment be acquired by
the taxpayer solely in exchange for cash. Section 45D does not prohibit a taxpayer
(including any taxpayer who is a person as defined under § 7701(a)(1)) from using cash
derived from a borrowing, including nonrecourse borrowing, to make a qualified equity
investment in a qualified community development entity. The facts of this revenue
ruling state that the loan from
Bank
is characterized as indebtedness of LLC for federal
tax purposes. The loan proceeds and the contributions by
X
and Y to LLC are used by
LLC
to make an equity investment of $2,000x in CDE. The requirements of
§ 45D(b)(1)(A) are satisfied because
LLC
acquires its investment in CDE at its original
issue solely in exchange for cash. The requirements of § 45D(b)(1)(B) are satisfied
because
CDE
uses the entire equity investment of $2,000x to make a qualified low-
income community investment. The requirements of § 45D(b)(1)(C) are satisfied
because
CDE
designates the equity investment of $2,000x for purposes of § 45D.
Accordingly,
LLC
is treated as having made a qualified equity investment of $2,000x in
CDE
when LLC acquires its equity interest in CDE. LLC may claim a new markets tax
credit on each credit allowance date in an amount determined under § 45D that is equal
to the applicable percentage of the $2,000
x
qualified equity investment in CDE. LLC
may allocate to
X
and Y the amount of the new markets tax credit that LLC claims with
respect to the $2,000
x
qualified equity investment. This allocation must be made in
accordance with § 704(b) (which provides rules regarding a partnership’s allocation of
income, gain, loss, deduction, or credit (or item thereof) among the partners).
HOLDING

Under the facts of this revenue ruling, for purposes of determining the new
markets tax credit allowable under § 45D, the amount of the qualified equity investment
made by an LLC classified as a partnership includes cash from a nonrecourse loan to
the LLC that the LLC invests as equity in a qualified community development entity.
DRAFTING INFORMATION

The principal author of this revenue ruling is Michael J. Goldman of the Office of
Associate Chief Counsel (Passthroughs and Special Industries). For further information
regarding this revenue ruling contact Mr. Goldman on (202) 622-3080. For information
regarding issues under § 45D contact Gregory N. Doran of the Office of Associate Chief
Counsel (Passthroughs and Special Industries) on (202) 622-3040. These are not toll-
free calls.